Understanding Convertible Bond Issuances of Chinese Listed Firms

Motivation: This paper investigates why Chinese firms issue convertible bonds. Premise: Unlike their counterparts in the United States and the European Union, most convertible bonds issued by listed firms in China from 2003 to 2014 are converted to equity before the maturity date. This indicates that the convertible bond in China is used as a backdoor equity financing instrument. Approach: By using a sample of 77 convertible debt, 655 straight debt, and 1,089 seasoned equity issues in China from 2003 to 2014, we employ a multinomial logit model. Results: Our regression results show that firms are more likely to issue convertible bonds rather than straight debt when the debt-related cost is low and stock price run-up is high while, compared to seasoned equity issuers, firms issue convertible bonds when the risk-free rate is low. Conclusion: The overall results suggest that while listed firms in China still seek equity financing first, they issue convertible bonds to take advantage of the interest rate deduction with the assurance to their investors that the convertibles can be converted to equities. In addition, most convertible bonds were underpriced on the offering date, suggesting convertible bond issuers do not exploit the local investors in China. Consistency: Our understanding on the convertible bond issuance is mainly based on firms in developed markets. Little is known about Chinese firms in this regard. In this paper, we study why firms issue convertible bonds in China by investigating 77 convertible bonds, 655 straight debts, and 1,089 seasoned equities issuances from 2003 through 2014. We find that the average of the ex post actual conversion rate of convertible bonds is 96.18 percent, indicating that almost all convertible bonds in Chinese stock markets were eventually converted to equities, which is a strong indication that convertibles are used as delayed equity. This motivation is reflected with the equity-like design of most convertible bonds in the Chinese market.